The US Department of the Treasury’s Committee on Foreign Investment in the United States (CFIUS) has reportedly increased its scrutiny of various transactions involving sovereign wealth fund (SWF) investments in the United States. Coming off a record-high of 440 transaction reviews in 2022—during which CFIUS reviewed a high volume of Asian investments—the committee now appears to be devoting increased scrutiny to transactions involving Middle East SWFs, especially those with ties to China.
SWFs occupy a unique space in the investment world and engage in a range of investments across industry sectors as both primary and limited partners. While other private equity or venture capital funds participate in the process in the same way, a foreign government’s interest in an SWF can create questions regarding whether the involvement of an SWF in certain deals will trigger a CFIUS review. Given that the standards vary when governments are investors, this interest can raise jurisdictional and timing questions for CFIUS.
As the committee looks into broader private equity and cross-border transactions, it has focused its attention on certain types of SWF investments, such as investments in technology and business relationships with various jurisdictions and parties. The committee is especially focused on potential third-party risk from China. In this way, an SWF’s significant investment in Chinese companies may complicate the CFIUS review when that same SWF seeks to invest in sensitive US companies. While the committee has increased its scrutiny of all investments, the unique nature of a government’s interest or participation in an SWF investment potentially incentivizes CFIUS to review US-based investments.
HOW SHOULD SWFS PREPARE AND RESPOND TO THIS ENHANCED SCRUTINY?
- SWFs should be mindful of the Foreign Investment Risk Review Modernization Act of 2018 (FIRRMA) provision. The FIRRMA provision makes filings mandatory for transactions involving the acquisition of a substantial interest in a TID US business by a foreign person in which the national or subnational governments of a single foreign state (other than an excepted foreign state) have a substantial interest. As defined by the CFIUS regulations, a TID US business includes a business involved in critical technology, critical infrastructure, or sensitive personal data.
- There is an exception to mandatory filing requirements for investment funds managed exclusively by general partners that are not foreign persons, so long as the foreign limited partners are sufficiently passive. Similar to that exception, CFIUS may be deprived of jurisdiction altogether when an investment fund is managed exclusively by a general partner that is not a foreign person and the foreign limited partners are sufficiently passive. However, SWFs should nonetheless conduct a thorough evaluation of the key CFIUS factors that could trigger jurisdiction and be aware that CFIUS retains the authority to review a transaction to assess whether it has jurisdiction over the investment. This calls for a detailed diligence process as well as a robust confirmation of the conclusions drawn related to the status of a TID business—that could be a key factor that could encourage CFIUS to review even a passive investment.
- SWFs that invest indirectly as limited partners may choose to structure investments to be sufficiently passive to limit CFIUS jurisdiction, and/or to be excluded from certain portfolio company investments for which the SWF investment would trigger CFIUS jurisdiction.
- Where appropriate, SWFs can include applicable representations and warranties in deal documents. For example, documents can state that an investment target is not a TID US business and/or that the foreign investor will not receive certain investor rights that could trigger CFIUS. However, SWFs should also be mindful that representations and warranties alone may not provide adequate support for demonstrating passive investment status. Representations and warranties, when coupled with the US business’s robust diligence and confirmation of the statements, can provide some additional protections.
- When it is necessary to submit a CFIUS filing, SWFs should be prepared for the possibility of increased scrutiny and the potential need to address national security issues—either preemptively or in response to the committee’s questions and concerns. When it is not required to submit a CFIUS filing and no voluntary filing is made with CFIUS, there also is a greater risk of a CFIUS non-notified outreach in the case of an SWF investment in US technology companies where there is perceived leading-edge technology or sensitive personal data. SWFs should be prepared to answer the questions that may be raised by CFIUS.
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